As a consequence of too much regulatory subsidized credit, whether by deflation or inflation, both houses and sovereign debts will be worth much less.

Sir, Martin Wolf writes: “monetary policy fosters risk-taking, while regulation discourages it — a recipe for instability.” “How the long debt cycle might end” May 15

Over the last decade I have written hundreds of letters to Wolf and other at FT about the dangerous waste of any stimuli package when you simultaneously distort the allocation of bank credit to the real economy, as is currently done with the credit risk weighted capital requirements for banks.

Just looking at some of the risk weights: like 0% for the sovereign, 20% for anything rated AAA to AA, 35% or less for residential mortgages and 100% for loans to unrated entrepreneurs, should have sufficed to know where we would end up, namely:

A banking sector abandoning much of its traditional “risky” lending in favor of what is perceived, decreed or concocted as safe; forcing most of those that used to keep to what was perceived as safe, like individual private savers, pension funds and even insurance companies, to get into the world of what’s risky, something for which they are much less prepared than banks.

And excessive bank exposures, as usual, morph what is very safe into being very risky. Having, with too much financing, pushed houses from being homes into being investment assets, have made households house-rich and money poor. Just wait till many of current owners, out of need must convert houses into main-street purchased power at any cost. Whether by deflation or inflation, those houses will be worth much less.

Of course, lower bank capital requirements for loans to sovereigns than for loans to citizens, translates, de facto, into a belief that bureaucrats know better and are more responsible than citizens about how to use bank credit, and will therefore cause excessive sovereign debts. 

With respect to it Wolf writes: “Those in emerging countries are particularly vulnerable, because much of their borrowing is in foreign currencies”. That is so but let me also add to that the Eurozone nations who, de facto, do not take on debt denominated in a domestic printable currency. 

But, let us be clear, a nation printing itself out of excessive public debt, does also expose itself to inflationary pressures and so again, whether by deflation or inflation, in real terms, that sovereign debt will be worth much less than what its buyers’ paid for it.

Sir, finally, Martin Wolf opines that those who recommended another route of adjusting than with the stimuli package to the 2008 crisis were “fools”.

That could be but, as a consequence of taking “the smart way”, the world just kicked the crisis can forward and renounced to the long-term benefits of a hard landing. There will come a time when too many will regret not having taken the fools’ way.

http://subprimeregulations.blogspot.com/2019/03/my-letter-to-financial-stability-board.html

@PerKurowski

Negative interests make you need deflation to balance your social security plans.

Sir, you mention that “José Viñals, a senior IMF official, has warned that negative rates could become more damaging for society the longer they persist, undermining the viability of life insurers, pensions and savings vehicles.” “Negative rates may be nearing a political limit” April 11.

Of course it does that. More than a decade ago, as an Executive Director of the World Bank I frequently objected to all those documents on Social Security System Reforms that assumed pension funds to obtain real rates of return I felt were unrealistically high for the long term. And to achieve those returns in an environment of negative interests, how much deflation might you need? Clearly, negative interests do not lead to something good.

You write: “Opponents of negative rates need to spell out the alternatives”. But Sir, that is precisely what I have done, in those hundreds of letters that you for whatever internal reasons decided to silence.

And so here it comes again. You mention that negative interests are — “intended to encourage… banks to lend more to the real economy”. But it is not only a question of more lending but also of correct lending. And the risk weighted capital requirements for banks impede these to allocate credit efficiently to the real economy.

How? Again: by allowing banks to leverage more on “safe” assets than on “risky”, the expected risk adjusted returns for safe assets will be higher than those of risky assets, and so banks will lend too much to “the safe” and too little to “the risky”.

And so in order for negative interests, QEs or any other monetary concoction to work, that regulatory distortion needs to be eliminated. Capisci?

@PerKurowski ©

Does anyone see the grey showing on the roots of Lucy Kellaway’s hair or the smear of icing sugar on her leg? Not me!

Sir, you know I am usually a great admirer of Lucy Kellaway’s writings, but, this time, I think she’s got it wrong. “High heels and boxing gloves: a portrait of women at work” March 21

Kellaway writes: “If a company wants to show that it really values women and wants to prioritise action in the gender equality landscape, it will show pictures of them in which they don’t always look cool or gorgeous. They just look like professional women at work.”

Hold it there, my wife is a great lawyer, and she has never ever expressed to me any concerns about any type of discrimination based on gender; if anything she has lately felt, ever so slightly, more burdened by age. But, no matter how she looked at work (always gorgeous of course), she would always, no exceptions, prefer to be depicted as if not at work.

And we men are instinctive survivors. We know perfectly well we should never ever take photos of any woman, including Lucy Kellaway, with “grey showing on the roots of hair and a smear of icing sugar on leg”.

PS. The following is absolutely no opinion, especially not mine; its just a question:

Is there anything as deflationary as women willing to work for less? If women did not work, and stayed home to binge on over 100 episodes shows, then unemployment rate would be lower, salaries higher, and so central banks would get the higher inflation they desire and so allow us higher interest rates, and so we could all have a chance to earn a bit on our savings to cover for our retirements. Matching life styles with the economies is always challenging… so they say.

@PerKurowski ©

The credit-risk weighted capital requirements for banks should never even have been on the table as an alternative.

Sir, Dominic Rossi writes “Negative real interest rates on bank deposits cannot be the road to prosperity, yet the promise of low nominal returns on traded securities looks risky… It is only by investing in innovation that we can escape this otherwise humdrum nominal world”, “Don’t look for escape routes when the third deflationary wave hits” September 3.

And I just ask: Are current credit-risk weighted capital requirements for banks helpful or not when it comes to allowing fair access to bank credit to finance innovations? Or is it only borrowers with high credit ratings who should be allowed to innovate?

The global deflationary wave that is hitting our economies is very much caused by the retrenchment of bank credit to whatever is perceived as risky, caused by the risk weighted capital requirements being applied to scarcer bank equity.

It is amazing to read how many claiming for less government austerity are simultaneously ignoring or even claiming for more bank credit austerity. 

If we want to get out of this we must realize that since risk taking is the oxygen of any development, we must get rid of that loony risk aversion of regulators that hides behind the risk-weights. God make us daring!

@PerKurowski

Since it can always pay back through inflation, I bank regulator, decree sovereign debt to have a zero risk-weight.

Sir, Diane Coyle begins “A history of inflation – and a future of deflation” April 7 with describing high inflation as “socially and economically corrosive, redistributing purchasing power away from small savers and those on low wages that do not keep up, and also degrading trust in long-term bargains”. In other words a truly public bad.

But then, because of “the effect deflation would have on real debt burdens” and how this would be “inhibiting a return to growth”, she ends arguing that “A quick and political painless way to reduce debt burdens, private and public, is a bout of high inflation.” Clearly a case of the damned if you do and damned if you don’t.

But, if what is really needed is a 30 percent inflation to cut all debts back to something livable, why not an Emergency Act that decrees a 30 percent haircut applicable to all debts in the society, including that of banks to its depositors. Would that not be a more transparent, less distortive and, hopefully, a politically more painful solution, so that we can get a little bit more accountability into the system?

I mention this because clearly the concept of inflation not being a haircut, although intellectually very repulsive, must be a prerequisite for allowing bank regulators to argue something so loony as a zero percent risk-weight for sovereign debt.

@PerKurowski

When the how to fight deflation is unequivocally dumb, and when deflation is the only good news in town

Sir, I refer to Gillian Tett’s “How deflation gave lower prices a bad name” March 29, with two brief comments:

One: Let’s suppose deflation is unequivocally bad. Even so to try to avoid it by artificially inflating the value of existing assets, by means of QEs, caring less about the creation of new assets, by means of bank regulations, sounds like something unequivocally dumb.

Two: For savers, who have sacrificed much consumption earlier in their lives, and who do now earn zero or even negative interests on what they consider as save investments, deflation must sound like the only good news in town.

@PerKurowski

Is ECB's Mario Draghi upbeat because markets believe he can be trusted to be a greater fool?

Sir, I refer to Claire Jones “Upbeat Draghi says landmark €1.1tn ECB bond-buying starts on Monday” March 6.

So what is Draghi upbeat about? “The QE plan… had eased borrowing conditions before a single government bond had been bought”? That to me sounds like the market having been convinced there’s a greater fool behind them. Is that it?

Or is Draghi upbeat because he feels the ECB has been able to fend of the danger that oil prices would trigger a deflationary spiral? That to me seems like strangely indicating that lower oil prices had been a damned nuisance for Europe and for the ECB.

Sir, honestly, I think many, all over Europe, have lost screws.

And I just know that anyone launching a huge QE, without making sure its liquidity can reach where it is most needed, like by means of bank credits to the risky SMEs and entrepreneurs, surely must be one of those missing at least one of those missing screws.

There will probably be a tragicomedy musical named “Mario” in our grandchildrens' future

Sir, John Kay does the debate on the economy a great favor by helping to place “deflation” in a wider perspective than that of being a definitive falling over the precipice point; and which amazingly has so many mature men running around like scared chickens, “History is the antidote to fear of falling prices”, January 28.

I am sure that in due time, the living in times of the deflation monster, as well as the banking in times of the Basel Committee, will provide great comedy and drama material for films and musicals… as we had “Evita” our grandchildren will probably have their “Mario”.

Why is Europe so little appreciative of our more than $300bn non-reimbursable oil price easing?

Sir, I completely agree with Sarah Gordon in that “Worries over deflation have been puffed up by prophets of doom” January 15.

For instance I cannot for the world understand why Europe is so little appreciative of the more than $300bn non-reimbursable easing the recent drop in oil prices represents. ECB’s QEs are to be repaid, not this one.

There we oil suppliers (I am Venezuelan) stand in the door, bearing what is for us very expensive gifts, and we have to hear about nasty suspicions that we want to infect Europe with the virus of deflation. Come on, what are friends for?

Why are not shares, properties in London, or famous paintings, not included as part of nominal demand?

Sir you hold that “deflation is bad if accompanied by falling nominal demand, and benign otherwise”, “Central bankers steered towards the wrong target” January 14. That sounds about right… (Unless you are an oil supplier of course)

What I cannot understand though is why increasing demand for art, shares and property has nothing to do with increasing nominal demand. In terms of overall purchasing capacity, there is little doubt that the inflation has been much much higher than that reported looking exclusively at a subjectively selected basket of goods.

It is not that I can buy much or any of that luxury, I am no plutocrat… but that does not mean that the distance to my dreams has not increased... dramatically.

Europe, get rid of risk-weights, impose a 10% leverage ratio, and have ECB's helicopter drop equity on your banks

Sir, Wolfgang Münchau, as a tool to avert deflation in Europe, mentions the possibilities of a sizable QE helicopter drop in Europe, like €10.000 per citizen; and, sort of shamelessly using the tragic recent Paris as an excuse, argues for more fiscal stimulus, “Eurozone needs to act before deflation takes hold” January 12.

And I have to wonder, again, what goes on in his and other columnist minds, when they make suggestions like these, while at the same time they do not seem bothered by that Europe’s banks are ordered not to lend to those perceived as risky, like to small businesses and entrepreneurs. Because that is what de facto happens when regulators allow banks to hold less equity against exposures perceived as safe than against exposures perceived as risky.

What would I do? Perhaps order a 10 percent not risk weighted leverage ratio imposed on all European banks to substitute for all credit risk discriminating equity requirements; and then have the ECB to subscribe and pay in what new bank equity might be needed on a case by case basis, all with a firm-commitment to resell those shares to the market within a given period.

That would not only help to fight deflation, but, much more importantly, it would allow those tough risk-taking agents that the economy needs in order to grow when the going gets tough, to get going again.

Some depressions cannot self-correct if what caused them correct. “Deflation” is surrounded by too much mumbo jumbo.

Sir, I refer to John Authers’ “The self-correcting depression and the virtue of deflation”, January 10.

Do I believe in that? You can answer that question yourself by looking at my letter that you published August 2006 titled “Long-term benefits of a hard landing”.

But I do not believe that all depressions can be self-correcting, some needs the primary causes for it to be removed. For instance, there is no way the current depression will self-correct in any sustainable ways without removing those so well intended, but still so utterly dumb, portfolio invariant credit risk weighted equity requirements for banks.

And neither do I believe in all that mumbo jumbo that is painting deflation as the monster of our times… perhaps only looking to justify doing more of what is working for some though clearly not for all.

The most dangerous deflation is that which has happened, big time, in the accountability of bank regulators.

Sir, you write: “The Eurozone cannot go on as it is. Growth is weak to non-existent” and you conclude in that “Deflation risk in Europe leaves no option but QE”, Saturday 10.

Nonsense. If Europe just threw out the windows those portfolio-invariant-credit-risk-weighted-equity-requirements for banks imposed by the Basel Committee; and which effectively blocks the fair access to bank credit of those perceived ex ante as risky, like small businesses and entrepreneurs, much more growth could be achieved; and even the QEs or any fiscal stimulus would have a chance to work better.

What stops this from happening? I am not sure, but one answer could be that admitting to a monstrous mistake could represent a too large embarrassment for the current president of the ECB, the former chairman of the Financial Stability Board… the “Whatever it takes”… (Except for that) Mario Draghi.

To consider what is perceived ex ante as risky to be more risky for the bank system than what is perceived as “absolutely safe” is a huge mistake. And to compound that mistake by allowing different equity requirements for bank assets based on credit risks already cleared for, introduces a distortion in the allocation of bank credit to the real economy, catapults it into being a monumental mistake.

PS. #IamnotFT I dare to think, and say, that expert regulators could succumb to stupid and dangerous group-think

The world is being driven towards deflation by a dangerous risk-aversion imposed by the regulators on banks

Sir, John Plender writes “The Eurozone is being driven towards deflation by a moralistic drive for austerity that does nothing to arrest rising debt as a percentage of GDP because the harder hit economies have shrunk” “World faces threat of a descent into intractable deflation”, January 7.

Wrong! The Eurozone, and others, is being driven towards deflation by a dangerous risk-aversion imposed by the regulators on banks; and which have these making much higher risk-adjusted returns when lending to the “safe” than when lending to the “risky”.

Since risk-taking is the prime oxygen for any true forward movement, the economic bicycle is stalling and falling; and no QEs or fiscal stimulus could in the medium and long term stop that stop from happening… but only make the awakening worse.

“My deflation is horrible, yours, oil, not so bad”

Sir, inflation seems to be have been identified as the number one tool to smack grandmother Europe back into fertility and force her to vibrate on the dance floor again. And though that must sound quite eerie to the poor of Europe, those who always end up being most taxed by inflation, most of you in FT clearly agree with that approach.

And that is why I was slightly surprised when I now read you categorically stating: “Weaker oil prices are a restorative that the flagging world economy needs”, “Opec members flounder in a flood of cheap oil.” November 28.

I say that because it would seem that lower oil prices are more likely to fuel deflation than inflation. But, I guess the beauty of inflation, like so much other, is also in the eye of the beholder, “my inflation is splendid, your inflation not so good”.

Sir, for the record, let me remind that though some inflation could help to put some kick back into granny again, that can only happen as long as she really wants, dares, and is allowed to do a comeback.

Unfortunately, while Europe insists on credit risk adverse regulations that effectively stop banks from lending to small businesses and entrepreneurs, that does not seem to be what the family wants for her. Currently Granny Europe is kept more into a “let me just die as painlessly as possible” mood.

PS. By the way, Opec should have invited the USA shale oil producers (extractors)

Quite many of our modern day bankers have, unfortunately, never known a small or medium sized enterprise.

Sir, I refer to the analysis “Bank stress tests fail to tackle deflation spectre” October 28.

In it we read Jean-Pierre Mustier, head of corporate and investment bank at Unicredit saying: “I think the issue of small and medium-sized enterprises lending is one of demand and not so much of supply”.

And I have a feeling Mr. Mustier might be one of those modern bankers who have never ever known a small or medium sized enterprise.

And if Mr. Mustier does not understand the impact on the supply of credit to small and medium-sized enterprises, the fact that banks are required to hold so much more equity when lending to these than when lending to “absolutely safe” has, that might be because Mr. Mustier as a banker has only lent to “infallible sovereigns” or members of the AAAristocracy.

When will regulators understand that it is only in what is ex ante “absolutely safe” that big systemic bank risks reside?

Sir Wolfgang Münchau approximates admitting to a problem of which I have written to him and to so many of FT´s other contributors over the years the years when he writes “Meanwhile, [European] banks want to reduce the amount risky lending so as to reduce the amount of equity they have to raise under new bank regulations” “Europe’s drifters wait but inflation never comes”, June 9.

I say approximate because first, the regulations of higher equity for what is perceived as risky are not that new… they took off in earnest with the approval of Basel II; and secondly, the real reason for which banks now need to raise new capital has really nothing to do with any lending to the “risky”, but with all the previous lending to some who ex ante were though as absolutely safe, and for which they were allowed to hold extremely little capital, but that ex post turned out to be very risky.

The day Münchau gets internalizes that bank lending to those perceived as risky has never been really risky, because of the high risk premiums collected and the usually very low exposures to them, that day he will put begin putting “risky” in quotation marks, and understand that what is really risky, without quotation marks, is what is perceived as absolutely safe… but could not be.

Of course, with the lack of capital and with the same risk-weighted capital requirements the chances for those unfairly considered “risky” for having fair access to bank credit are slimmer than ever.

Before there is a real and open discussion on who was it that authorized regulators to put the very short term stability of banks in the forefront, and distort the allocation of bank credit, and so endanger the medium and long term of Europe’s economy, and its banks, Europe will not get anywhere.

ECB, searching for inflation, while not allowing “risky” small businesses fair access to bank credit, is mindboggling silly.

A virtuous circle or cycle in Europe? Hah!

Sir, you hold that “Mr Draghi may not have to go down the QE road. There is growing sentiment in financial markets that the ECB chief’s credibility has already created the virtuous circle Europe needs to emerge from the crisis. Lower bond yields are improving credit conditions across the eurozone”, “Draghi must tackle threat of deflation”, May 10.

And Ralph Atkins also refers to the same “virtuous cycle” in “Draghi’s bluff closer to being called”.

What can I say? As I see it the risk weighted capital requirements for banks which favors immensely bank lending to the “infallible sovereigns” over any lending to “the risky” medium and small businesses, entrepreneurs and start-ups, has placed Europe in a vicious circle, or cycle, in a real death-spiral.

And Mario Draghi, as a former chairman of the Financial Stability Board, bears much responsibility for that.

Why on earth should there be any Quantitative Easing in Europe if the liquidity provided cannot flow freely to where it is most needed?

Europe, before aiming at the dragon with unconventional QE, go back to conventional bank regulations which do not distort.

Sir, I refer to your “Taking aim at the dragon of deflation” in which you so much favor QEs of any kind, even if you would have to, quite shamelessly, twist the obvious intentions of European law, April 5.

Deflation is a much a result of retrenchment, retrenchment in much a result of risk aversion, and Europe’s current risk aversion very much the result of capital requirements for banks, which allow these to earn higher risk-adjusted returns on equity when lending to “the infallible” than when lending to “the risky”.

Those highly unconventional bank regulations are poisoning Europe and so, before digging Europe further down into the ground, with for example QEs, you must return to conventional bank regulations that do not distort the allocation of bank credit to the real economy.

Current capital requirements for banks represent, for the risky real economy, the biggest source of deflationary bias.

Sir, Sir Samuel Brittan, in “Forget trying to change Germany – or any other country”, April 5, in reference to what in his opinions are not sufficiently expansionary fiscal and monetary policies, for instance by Germany, writes that “the whole system has a deflationary bias when the world least needs it”. 

I will not argue against that but, let me assure you that the current capital requirements for banks, which so odiously discriminate against all what is not officially perceived as absolutely safe, represents, with respect to the real economy, that in which “absolutely safe” is absolutely absent, the mother of all deflationary biases. 

And if we cannot, as Brittan holds do much about what countries do with their own fiscal and monetary policies, and need to treat those as exogenous events, accepting or not the Basel Committee nonsense, is indeed a quite endogenous decision. The only thing needed is for one or two finance ministers to ask their regulators to explain the why of those capital requirements, and then to be prepared to act decisively upon receiving  any mumbo jumbo answers.